Small business owners may write off business expenses that are “ordinary and necessary.” There aren’t limits and net losses can offset other forms of income like salaries and wages. Losses can even carry over to future years. When business expense deductions are abused the penalties can be stiff. When the taxpayer who tried to pass personal expenses as business deductions is a tax judge, any argument about a negligent error doesn’t get very far.
Former tax judge sentenced to prison
A recent tax fraud case has received quite a bit of publicity, because it involved a former U.S. Tax Court Judge. The Judge had been appointed to the U.S. Tax Court in 2003 on a 15-year appointment, but retired in 2014.
The judge and her husband apparently wrote off nine vacations, Pilates classes and wine club fees as business expenses. They did not report a $45,000 gain on the sale of a house and claimed insolvency to avoid paying taxes on canceled debt.
Prosecutors alleged that over six years, this scheme allowed the couple to understate their income by approximately $1 million and avoid paying $450,000 in taxes.
Prison sentences
After reaching a guilty plea on a charge of conspiracy to defraud the U.S., the former tax court judge received a prison sentence of two years and 10 months. Her husband pled guilty to a charge of obstruction of a tax audit and received a slightly shorter sentence of two years.
The prosecuting attorney said the crime was especially egregious, stating “Ms. Kroupa used her knowledge of the tax laws to further their fraud scheme, conceal their criminal conduct and maintain their acquisitive lifestyle.” The sentences in part were designed to show that no one is above the law.
Reminder to save documentation to support business expenses
Because business deductions are known to be abused, this is a highly audited area. Common issues arise when business owners deduct dual-use items like computers or vehicles. Because of this it is important to keep records such as receipts or log books to support any business expense deduction.
Initial IRS questions about these deductions can become serious. A determination that overstated business expenses were more than an error or oversight could lead to a fraudulent return penalty and criminal charges as the case against the judge demonstrates.
It's very important to work closely with an experienced IRS tax lawyer if you suspect you are being investigated or you have been accused of tax fraud. It’s best to have experienced tax representation from the onset to keep penalties at a minimum. These tax attorneys also are able to work with tax agents and other officials to see if a compromise settlement is possible.
